We haven’t heard much about the Chinese economic miracle these days,
perhaps mainly because here in Canada, NAFTA – and U.S. president Donald
Trump’s tweets and tariffs – have been hogging the economic headlines of
late. Nevertheless, the Chinese market continues to soar, and in fact,
Greater China equity funds continued to top the category performance
rankings for all time frames out to three years. The one-year average
return through the end of January 2018 from seven funds in the category was
a stunning 42.3%! So, what is happening behind the Great Wall to inspire
such success?

According to
Jing Ning, Hong Kong-based manager of the FundGrade A+® Award-winning
Fidelity China Fund, “The country is emerging from a period of industrial deflation, and
supply side reforms have led to better supply dynamics as well as the
removal of excess capacity. Growth in consumption and exports has been
strong. Meanwhile, the government’s current focus is on deleveraging and
regulation in China’s huge and complex financial system.”

All of which bodes well going forward. “[Future] emphasis will be on
‘quality over quantity’ of economic activity in China,” Jing adds. “We are
likely to see a renewed thrust on reforms across state-owned enterprises
(SoEs), as well as in energy pricing and pro-environmental policies.”

While the Chinese economic and business landscape is changing, though, Jing
has no intention of changing her value-contrarian bottom-up approach to the
markets. “We gravitate towards value opportunities across the breadth of
the market,” she says, “We don’t restrict ourselves to sectors that are
traditionally associated with value investing, such as utilities and
defensives – we’ll even go into information technology – and we focus on
determining the intrinsic value of a company, rather than on themes such as
old China vs. new China, or state-owned vs. private enterprise.”

Jing goes beyond the mathematical search for value, though, and seeks
quality business models and management teams. She will put management on
her radar screen for a couple of months and meet with several members of
senior management before investing in a company. And while she covers the
broad market, she looks for long-term value.

“We do have a preference for durable business models that offer earnings
visibility from a three- to five-year perspective,” Jing adds. “Such stocks
often go unnoticed by the larger market, and they trade at attractive
asset-based valuations.”

Indeed, this focus on long-term potential is reflected in a low turnover of
18.6% among the fund’s 70 holdings. And while Jing’s bottom-up approach
remains unchanged, her aim has been shifting. “We’re now focused on
opportunities arising from the long-term structural changes that are
underway. These include a shift in the economy towards consumption-led
growth, a change in consumption patterns, and reforms in SoEs.”

The manager’s strategy has paid off in handsome long-term performance, with
the Fidelity China Fund Series F topping the 10-year peer performance ranks
at an average annual compounded rate of return of 9.48% to Feb. 28,
compared with 8.0% for the nearest runners-up.

The changing Chinese consumer landscape has led to portfolio adjustments
including, for example, a strong position in Gree Electric Appliances.
“This company is a market leader in the Chinese air conditioning market,”
says Jing. “It has a strong balance sheet, and its management has a clear
vision for its future growth drivers.”

The fund is also currently overweight oil and gas giant CNOOC [China
National Offshore Oil Corporation]. “The markets are overlooking its
excellent cost controls, low debt levels, and strong free cash flows,” says
Jing. “The company is a potential beneficiary of a recovery in oil prices
as well.”

And of course, as the global economy gathers steam (barring further growth
in protectionism), China will be a major beneficiary with its realigned and
reformed business/economic platform. “Earnings are continuing to recover
strongly in China,” says Jing. “This has eased working capital pressures on
the corporate sector.”

Olev Edur is an experienced financial and business journalist and a frequent
contributor to the Fund Library.

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